Summary

The Supreme Court considered three issues concerning the meaning and application of the client money rules in Chapter 7 of the Client Assets Sourcebook issued by the Financial Services Authority. It held that a statutory trust arose on the firm's receipt of client money; participation in the notional client money pool was not dependent on actual segregation of client money; and the primary pooling arrangements applied to client money held in house accounts.

Facts

The appellant (L) appealed against a decision ([2010] EWCA Civ 917, [2011] Bus. L.R. 277) on various issues concerning the ownership of theclient funds held by it at the date of its entry into administration.

L was the principal United Kingdom trading subsidiary of a United States financial services company that had filed for protection from its creditors under Chapter 11 of the US Bankruptcy Code. It was regulated by theFinancial Services Authority and was authorised to hold client monies. Indoing so, it operated the "alternative" approach set out in the Client Assets Sourcebook, Ch.7, 7.4.12G (CASS 7) issued by the FSA to implementDirective 2004/39. Following L's entry into administration, theadministrators made several applications to the court for directions. Theinstant appeal was concerned with the meaning and application of theclient money rules and the client money distribution rules contained inCASS 7. The central feature of those rules was that regulated firms were required to segregate their own money and the money they held on behalfof their clients by placing the latter in a client account. CASS 7 provided for client monies to be held on trust, and the scheme was intended to ensure that they would be protected in the event of the firm's insolvency. However, problems had arisen in the instant case firstly because L had failed to segregate a large amount of client money, and secondly because it had deposited other, segregated, client monies with a bank which ultimately failed. The issues were whether (i) the statutory trust created by CASS 7.7.2(R) arose upon the firm's receipt of client monies, or upon its segregation of them; (ii) participation in the notional client money pool established by CASS 7 was dependent on actual segregation of client monies; (iii) the primary pooling arrangements in CASS 7 applied to client monies held in house accounts.

Held

(Lords Walker and Hope dissenting on second and third issues) (1) Thestatutory trust arose on receipt of client monies. Where money was received from a client, it would be unnatural, contrary to the primary purpose of client protection, and contrary to the natural language of7.7.2R, for that money to cease to be the client's property on receipt but for it to become his property again on segregation. Segregation without a trust would not achieve the objective of the Directive, but under thealternative approach in CAFF 7.4.16, an immediate trust of identifiable client monies did provide protection. The absence of express restrictions on the use of client monies held in a house account did not mean that thefirm was free to use it for its own purposes. It had an obligation to segregate it promptly, and CASS 7.3 together with the general law oftrusts prevented its use for proprietary purposes (see paras 61-63, 111-112, 185, 190-195 of judgment). (2) Whether participation in the notional client money pool was dependent on actual segregation of client monies depended on the proper interpretation of 7.9.6R, 7.9.7R and 7.7.2R. It was necessary to bear in mind that all client monies were subject to thestatutory trust, and where there was a choice of possible interpretations,the court had to adopt the one affording a high degree of protection for all clients who had money with the firm. The argument that no actual segregation was required for participation in the client money pool was supported both by the language, and a purposive interpretation, of CASS 7. Under the CASS 7 regime, all client money was subject to the statutory trust and the intention was to safeguard the assets of all clients (paras 139, 144-145, 147, 159). (3) To exclude from the distribution regime identifiable client monies in house accounts would run counter to the policy underlying CASS 7 by creating a bifurcated scheme under which clients had different levels of protection depending on whether their money was heldin a segregated or a house account. The true purpose of the scheme was to provide a high level of protection to all clients, and in view of theoverriding purpose of the scheme, it was unlikely that the intention was that client monies that had yet to be segregated under the alternative approach were to be treated differently from money that had been segregated (paras 162, 165-166).